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Online Tutorial #5: How Do You Calculate A Company's Incremental Fixed Capital
Needs?

Incremental investment in fixed capital is another important value driver in an

analysis of shareholder value. This session focuses on where to find the data, how to
calculate historical fixed capital trends and how to project future fixed capital needs.
As with previous sessions, we will use Domino's Pizza, Inc., as of September, 2020, as
a case study. Readers who want to calculate incremental fixed capital while reading
this tutorial may wish to download the accompanying spreadsheet.

What Does Incremental Fixed Capital Mean?

To understand what we mean by incremental fixed capital, let's break this phrase
down into its component parts:

• Incremental. This means that we want to look at the additional cash a company
annually invests in its long term operating assets.

• Fixed. This means we look at cash tied up in long term operating assets such as
property, plant, and equipment (PP&E) and capitalized leases.

• Capital. This is the amount of cash a company has spent annually in fixed
capital in order to run its business.

For industrial companies, then, incremental fixed capital equals the cash a company
invests annually in long term operating assets.

We can calculate a company's annual investment in fixed capital by analyzing its cash
flow statement. To calculate a company's gross fixed capital investments, we sum
the following items:

• Capital expenditures

• Capitalized software costs

• Other investment activities, net

 • Acquisitions, net of cash acquired
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However, before we finish,
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deduct depreciation (found on the Cash Flow
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Statement in the "Cash flows from operating activities" section). This is because we
want to calculate the cash invested above and beyond a company's annual
depreciation. The underlying assumption is that depreciation is a rough estimate for
how much a company must spend to maintain its physical assets. In other words, we
consider only capital investments above and beyond depreciation as incremental.

Case Study: Domino's Pizza as of September, 2020

The following table summarizes the calculations for Domino's:

Source: Domino's Cash Flow Statements can be found here.

Note: This data should be entered into the "Inputs" worksheet of the "Online Tutorial
5.xlsx" spreadsheet.

Building on this metric, we can calculate how much incremental fixed capital
Domino's must invest to generate a dollar of new sales:

Over this five year period, then, Domino's invested $189 million into its fixed capital in
order to generate $1.6 billion in incremental sales. In other words, Domino's invested
11.6% of incremental sales into fixed capital.

In the Price-Implied Expectations (PIE) analysis we perform in the book, we assume

that Domino's will invest slightly under this amount at 10.0% of incremental sales
(see page 92).
© Michael J. Mauboussin and Alfred Rappaport | Website by Patrick Mauboussin
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